A few days ago while reading my morning Sun-Times, I found this headline: Investors bilked of millions: charges. Then the lead-in, which declared: A North Shore businessman was arrested this week after he allegedly swindled investors out of several million dollars.
According to the story, Jay C. Nolan was released on a $100,000 bond on allegations that he defrauded individuals who invested in a hedge fund that he managed. Hedge funds are not a big component of the Series 7, but they are testable. Remember that investors need to be accredited to buy into a hedge fund and that hedge funds employ higher risk trading strategies as well as being very difficult to liquidate. They are organized as limited partnerships (DPPs), as we notice by the name of Mr. Nolan's fund, "Lodge Diversified Fund LP," where the "LP" stands for limited partnership. Actually "LP" could also be said to stand for "losing plenty" or "lying phoney," but we'll stick to the traditional reading here.
What happened? Apparently, when the losses began to pile up, the hedge fund manager simply could not admit it to himself or to investors. Allegedly, he sent out account statements revealing that the fund was currently worth $6.3 million, but when an investor did some checking with other sources, he learned that the actual value was only $170,000.
Oopsie! That's more than a typo, isn't it? I'm not sure how large or scary the investor is, but according to the story, Mr. Nolan spilled his guts immediately and admitted he had been sending out bogus account statements.
So now what? First, there will be the massive legal bills paid to Mr. Nolan's attorneys, who will do their best to keep him out of jail or keep his sentence as short as possible. Maybe they'll take it to an embarrassing criminal trial in which angry investors take the witness stand one-by-one and call him every name in the book that the judge will allow. Or, maybe they'll accept a plea bargain in exchange for a shorter sentence. There will also be the civil cases in which investors try to sue to recover some of their money. And, the SEC and/or the State of Illinois will try to make sure he never works in the investment industry again.
Do a google search on "Lodge Diversified Fund LP" and see what you can find. And please remember that sending bogus account statements through the US Mail and by email equals criminal violations known as "mail and wire fraud." When you sit for your Series 63 or 66 you'll learn about "custody" issues in the sense that regulators don't like investment advisers to have control over client assets but prefer that the assets are held by a custodial broker-dealer, who sends account statements to investors with no motiviation to fudge the numbers. Letting your investment adviser tell you what your investment is currently worth is a recipe for fraud and disaster.